On Election Day, voters in every Michigan county decisively
rejected the union-driven education spending mandate known as Proposal 5, part
of which would have transferred a portion of future, unsustainable school
employee pension costs from local school districts to the state general fund.

But a problem the proposal sought to address still remains:
underfunded school employee pensions. Future responsibility for the underfunded
promises of the Michigan Public School Employee Retirement System will continue
to burden school districts, and substantive pension reform is the only way to
ensure school employees’ and taxpayers’ security.

Private-sector employers are realizing defined-benefit systems like MPSERS do not serve today’s aging and mobile workforce.

MPSERS is a defined-benefit program, meaning the system
promises members health insurance coverage and a set monthly pension payment
upon their retirement. It is easy to get distracted by all the technical public
finance and accounting language like "present value," "expected rates of return"
and "life expectancies." But the concept is simple. If the fund’s assets do not
equal what it promises to pay, it is "underfunded" or, more accurately,
overpromised.

According to the latest MPSERS financial report, the program
is 83.7 percent funded. That means that the pension fund’s assets are only 83.7
percent of what actuaries have projected it will need to pay out to retired
members, which amounts to a shortfall of about $7.5 billion.

This fact would not be so onerous, if the ratio of assets to
liabilities had been holding steady or increasing. But that isn’t the case. Just
six years ago, MPSERS was 99.3 percent funded. The slip is due to a variety of
factors, including a stock market slump, increasing numbers of retirees and too
few new participants replacing the retired ones.

Strangely, reform of MPSERS has been avoided by state
legislators, even though increasing burdens are weighing on school boards and
administrators. Consider the schools’ perspective: This year, contributions to
the pension system will likely cost school districts approximately $1,040 per
student, according to a recent estimate from Michigan’s Senate Fiscal Agency.
Moreover, MPSERS payments last year were estimated to have eaten up more than
half of the increase in per-student state funding. The Senate Fiscal Agency
projects that this year, MPSERS costs will consume almost 13 percent of
districts’ tax-funded income.

To deal with these rising costs, more than one-third of
Michigan school districts are laudably pursuing better management strategies by
competitively contracting noninstructional services. Others are seeking
reasonably priced, quality health insurance benefits. But a sound solution for
the over-promised system would offer even more relief to districts.

Raising taxes when the bills come due would be a questionable
policy. It would mean that the majority of Michigan taxpayers, in addition to
investing for their own retirement, would be on the hook for the unfunded
liabilities. Other approaches would place more of the burden on the public
employees themselves: raise the retirement age, close the system to new hires or
hike the contribution rate.

A better solution would be to emulate the private sector.
Private-sector employers are realizing defined-benefit systems like MPSERS do
not serve today’s aging and mobile workforce. Instead, many employers are
transitioning to defined-contribution plans such as 401(k)s. A
defined-contribution plan could help to eliminate the program’s underfunded
promises and protect taxpayers from the program’s debt.

Such a program can be designed in a way that protects
inexperienced investors, keeps administrative costs low and allows participants
to build the largest possible retirement nest egg while reducing risk as
retirement age approaches. State officials could look to the federal Thrift
Savings Plan, a 401(k) plan for millions of federal employees, as an example.

This trend toward defined-contribution plans isn’t new, even
among public employees in Michigan. Nearly a decade ago, Michigan lawmakers
closed the Michigan State Employee Retirement System and instituted a
defined-contribution plan for new state employees.

Michigan citizens and school employees should keep a close
eye on the underfunded promises of MPSERS. While MPSERS reform may not seem a
pressing problem today, failing to address this impending crisis will add
increasing strain on education budgets, shoving aside spending on schools’
primary instructional mission. Now that a healthy majority of voters have
rejected Proposal 5’s ominous pension funding shift, state legislators must take
responsibility for reforming the school employee pension system for the good of
the employees and of Michigan residents.

#####

Ryan S. Olson is director of education policy for the
Mackinac Center for Public Policy, a research and educational institute
headquartered in Midland, Mich., and Matt Moore is a senior policy analyst with
the National Center for Policy Analysis in Dallas.
Permission to reprint in whole or in part is hereby granted, provided the
authors and the Center are properly cited.

ISSN: 1093-2240,
SKU: V2006-35

Summary

The Michigan Public School Employee Retirement System is a fiscal burden on school districts that will only continue to grow. It is up to the state Legislature to address this elephant in the classroom.